Two Decades of Winning by Not Losing

Performance Disclosure

You should consider the Fund's investment objectives, risks, and charges and expenses carefully
before you invest. The Prospectus details the Fund's objective and policies and other matters of
interest to the prospective investor. Please read this Prospectus carefully before investing. The
Prospectus may be obtained by visiting the website at www.fpafunds.com, by calling toll-free, 1-
800-982-4372, or by contacting the Fund in writing.

Average Annual Total Returns

Market Cycle
Performance
Since 20 15 10 5 3 1 10/10/07- 3/25/00-
As of Date: 3/31/17 YTD QTR
6/2/93 Years Years Years Years Years Year 3/31/17 10/9/07
FPA Crescent Fund 10.42 9.19 8.49 7.02 8.47 5.27 14.19 3.37 3.37 6.75 14.70
S&P 500 9.31 7.86 7.09 7.51 13.30 10.37 17.17 6.07 6.07 6.74 2.00
MSCI ACWI - - - - 8.37 5.08 15.04 6.91 6.91 2.84 -
60% S&P500/
8.02 7.17 6.39 6.52 8.94 7.38 10.26 3.95 3.95 6.06 3.97
40% BBgBarc US Agg
CPI NA 2.13 2.10 1.73 1.27 1.10 2.45 0.30 0.30 1.66 2.75

Periods greater than one year are annualized. Performance is calculated on a total return basis which includes
reinvestment of all distributions.
Past performance is no guarantee of future results and current performance may be higher or lower than the
performance shown. This data represents past performance and investors should understand that
investment returns and principal values fluctuate, so that when you redeem your investment it may be worth
more or less than its original cost. The Funds expense ratio as of its most recent prospectus is 1.09%. A
redemption fee of 2% will be imposed on redemptions within 90 days. Current month-end performance data
may be obtained at www.fpafunds.com or by calling toll-free, 1-800-982-4372.

The Fund commenced investment operations on June 2, 1993. The performance shown for periods prior to March 1,
1996 reflects the historical performance of a predecessor fund. FPA assumed control of the predecessor fund on
March 1, 1996. The FPA Crescent Fund's objectives, policies, guidelines and restrictions are, in all material respects,
equivalent to those of the predecessor fund.

S&P 500 Index includes a representative sample of 500 leading companies in leading industries of the U.S. economy.
The index focuses on the large-cap segment of the market, with over 80% coverage of U.S. equities, but is also
considered a proxy for the total market. Barclays Aggregate Index provides a measure of the performance of the U.S.
investment grade bonds market, which includes investment grade U.S. Government bonds, investment grade
corporate bonds, mortgage pass-through securities and asset-backed securities that are publicly offered for sale in
the United States. The securities in the Index must have at least 1 year remaining in maturity. In addition, the
securities must be denominated in U.S. dollars and must be fixed rate, nonconvertible, and taxable. The Consumer
Price Index is an unmanaged index representing the rate of the inflation of the U.S. consumer prices as determined
by the U.S. Department of Labor Statistics. There can be no guarantee that the CPI of other indexes will reflect the
exact level of inflation at any given time. The CPI shown here is used to illustrate the Funds purchasing power
against changes in the prices of goods as opposed to a benchmark which is used to compare Funds performance.
60% S&P500/ 40% Barclays Aggregate Index is a hypothetical combination of unmanaged indices comprised of 60%
S&P 500 Index and 40% Barclays Aggregate Index, the Fund's neutral mix of 60% stocks and 40% bonds. These
indices do not reflect any commissions or fees which would be incurred by an investor purchasing the stocks they
represent. The performance of the Fund and of the Indices is computed on a total return basis which includes
reinvestment of all distributions. It is not possible to invest in an index.

Market Cycle Performance reflects the two most recent market cycles (peak to peak) defined as a period that
contains a decline of at least 20% from the previous market peak over at least a two-month period and a rebound to
establish a new peak above the prior market peak. The current cycle is ongoing and thus presented through the most
recent quarter-end. Once the cycle closes, the results presented may differ materially.

1
 Two Decades of Winning by Not Losing
May 25, 2017

*The following is adapted from a recent speech given by Steven Romick*

To some of you, all Americans are exactly alike. I may as well be President Trump. Like him, you have no
idea what Im about to say.

Well, check that: it often seems he has no idea what hes about to say, and thats a major source of
uncertainty in all of our lives, both personally and professionally that can create an insecurity on which
much of the business media preys.

The business media, like President Trump, looks for winners and losers. Theyll highlight the stocks du
jour that are either performing really well, and then, in the next breath, show a graphic of those that
tanked. Stocks go up. Stocks go down. Sectors do well, sectors do poorly. Its entertainment.
Ultimately, I dont find it very valuable. Its no more than tabloid reporting. Its their version of who is
sleeping with whom and who has fallen off the wagon. Short-term market price movement does not tell us
anything about long-term value.

At any given moment, the media highlights whichever few stocks are driving the stock market. In the U.S.
in 2015, it was the FANG stocks Facebook, Apple, Netflix, and Google.

In the UK in 2016, it was just three rebounding commodity companies and one financial that accounted
for more than three-quarters of the FTSEs 14.4% return.1

For as long as Ive been investing, it has generally been the case that just a few stocks drive these
indices; and that these few stocks pull the lesser performing stocks along with them. The investing
community has come to define this law of financial physics as positive skew.

Positive skew now joins active share in that lexicon.

Passive management advocates dont use this phrase to praise the active manager, but rather to poke at
us.

What the passive manager would have you believe is that, thanks to exorbitant fees, to transaction costs,
and to not picking winners, it's always better to index. Ive read that maybe just 10% of the managers can
outperform the market over time, and the odds that you will find that manager: even lower still.

Armed with some selective data, some critics of our approach say that that it is unlikely an active
manager will consistently own those few stocks that drive stock returns in any given year, let alone year in
and year out. Let me read you an excerpt from an essay in the Financial Analysts Journal:

Disagreeable data are streaming out of the computers ofthe... performance measurement firms. Over
and over and over again, these facts and figures inform us that investment managers are failing to
perform.

Charles Ellis wrote this more than 40 years ago.

So these arguments have been around a long time. But I am not here to tell you that there isnt truth to
Mr. Ellis 1975 essay, which he called: The Losers Game.

Fundamentally, passive investment is always going to look great during a long-lasting bull market.

1
Royal Dutch Shell A; Royal Dutch Shell B, BP, HSBC Holdings, and Glencore contributed 11.1% to the FTSE Index 2016 return.

2
If someone wants market rates of return and can withstand some volatility, then it can also serve as an
efficient, low-cost tool. The further you get away from a bear market, the greater the number of people
who have convinced themselves they can handle the downside until the next time, of course

In the interim, if the indices are performing well, then you can bet that many investors individuals and
professionals, alike are going to feel pressure to do whatever they can to ride the bull.

They fear being different. Tracking error is bad. Owning too many securities in every sector is a sure way
to avoid being fired for being different. Id rather spend my time surfing than to have to invest like that.

Thanks to the accelerated increase of passive investing now around 40% of the U.S. market Im
confident that there will be a period when it will look really easy to beat a benchmark followed by
another time when, again, it wont.

This academic argument against active investment is fundamentally flawed because its built on a false
premise, which holds that only the best performing stocks will drive returns. The argument doesnt
consider the other side. A maxim Ive taken to heart.

If you avoid the worst performing stocks, you can still put up good numbers. (Ill leave it to you to
conclude if Im just talking my book.)

Further, these critics place too much weight on performance in each year and ignore performance over
a full-market cycle.2 This leads to short-termism. And short-termism is a breeding ground for all sorts of
cognitive dissonance to which smart people fall prey when trying to adapt and join the crowd.

People viewed the internet as a fast-growing disruptive game changer in the late 1990s. And so it was,
but as you know, internet stocks of that era were largely priced at wholly illogical levels.

Yet, many smart people couldnt handle not participating. Maybe they were worried about not making as
much as their friends. Or maybe they were worried about being fired. Whatever the reason, if they
participated they generally lost badly.

In 2008, we sat on the precipice of a depression and many investors quickly liquidated their stocks and
bonds, believing the economy would get worse, and stocks would continue to decline. It appeared correct
to do so for a time.

Some of those who exited the market realized their mistakes and came back to the market down the
road after the economy found firmer footing but also after prices had already rebounded.

Short-termism.

Patience, a long-term focus, and avoiding the fads are key for successful investing. Some of the most
successful stock investors of the last few decades in the United States arent known for finding the latest
and greatest.

I give you as just a few examples: Warren Buffett, Seth Klarman, Jean-Marie Eveillard, and my former
partner of two decades, Bob Rodriguez. Each compiled a long track record respected by investors of all
types.

Each had their share of winners, but none created their enviable performance by owning those few
golden stocks of a given year. They won by not striking out, rather than by hitting grand slams. In other
words, they won by not losing emblematic of our approach.

2
Steven Romick and Ryan Leggio, The Importance of Full Market Cycle Returns. See: http://fpafunds.com/docs/special-
commentaries/2015-04-29-market-cycle-performance-final.pdf?sfvrsn=2

3
We allow ourselves the opportunity to participate on the upside while protecting ourselves on the
downside. And we focus, more centrally, on fundamental research on companies that can create value
over time.

Id like to show you from my own experience in managing money over the last few decades, that some of
the best investment decisions in my career have been acts of omission avoiding those securities,
industry sectors, and asset classes that we believed offered a poor risk versus reward.

FPAs Crescent Fund (the Fund) operates with a global, go-anywhere mandate and invests across the
capital structure, using mostly stocks and corporate bonds to seek equity rates of return, while, at the
same time, avoiding a permanent impairment of capital.

Lets look at just the stock returns of our FPA Crescent Fund3 in this past decade (gross of fees). You
can see there were times we underperformed. When compared to the global indices, we underperformed
in just one year of the past ten. When compared to the U.S. market, we underperformed in three. Our
worst relative showing was just -2.4% vs the S&P 500 in 2015. Our average underperformance of these
four years was just -1%.

Active security selection drives differentiated returns3

There were five instances where our equity holdings outperformed the global indices by more than 5%;
and, there were four instances where we outperformed the U.S. market by the same percent. The
average alpha delivered in the years when we bettered our benchmarks was 6-7%.

This has aggregated into some poor periods when the bulls were a runnin. Our fund has underperformed
about 87% of the time when the S&P 500 has booked a trailing five-year return in excess of 10%.

However, we beat the market in 100% of the trailing five-year periods when the market declined; and,
almost 98% of the time when the trailing five-year returns fell in the 0-10% range. In addition, unlike the
S&P 500, FPA Crescent has had positive performance in every rolling five-year period. We exceeded our
goal of doing as well as the market mostly by avoiding permanent impairments of capital. This is in line
with how we expect the Fund to perform.

3
The FPA Crescent Fund discussed in this adapted speech and the performance data reflected herein is based upon the long
equity segment of the Fund, and is provided as supplemental information. Performance is presented gross of investment
management fees, transactions costs, and operating expenses, which if included, would reduce the returns presented. Performance
for 2017 is through March 31, 2017. Past performance is no guarantee of future results. Please refer to the end of the
adapted speech for important disclosures.

4
 5-year rolling returns by market type since inception4

Our way of investing gets little play from the broad business press. Thats a blessing, not a complaint.
The reasons for this are that there are very few like us in the public arena who practice value investing
without arbitrary capital structure, asset class, or geographic borders.

Frankly, in this age of Instagram and Snapchat when immediate gratification seems to rule our lives,
few portfolio managers have the patience to remain disciplined through their inevitable difficult periods,
and even fewer clients are willing to stay with their underperforming managers.

Thanks to poor relative performance in the late 1990s, and lacking Berkshire Hathaways permanent
capital, or the long lock-up capital of Mr. Klarmans Baupost Group, from 1997-2000 First Pacific Advisors
(FPA) and Monsieur Eveillards firm First Eagle saw assets under management drop by more than 50%.
Now, both firms received a lot of flak at the time. But we argued that we were taking the prudent approach
in protecting our clients capital.

This cautious stance can bruise a business in the near-term, but in the long-term, it benefited those
clients who stuck around. As I wrote when Bob retired from FPA this past December, He taught all of us
what its like to put investors first, whether they like it or not.

Im not going to lie. Id love to be loved all the time. But you cant be a value investor and expect that. If I
want to win over time, Ill just have to settle for periodic appreciation.

4
Source: Morningstar Direct. The chart illustrates the monthly five-year rolling average returns for the Fund from July 1, 1993 (the
first full month of performance since inception) through March 31, 2017 compared to the S&P 500 Index. The horizontal axis
represents the five-year rolling average returns for the Index, and the vertical axis represents the Funds five-year rolling average
returns. The diagonal line illustrates the relative performance of the Fund vs. the Index. Points above the diagonal line indicate the
Fund outperformed in that period, while points below the line indicate the Fund underperformed in that period. The table categorizes
returns for three distinct market environments: a down market is defined as any period where the five-year rolling average return
for the Index was less than 0%; a normal market is defined as any period where the five-year rolling average return for the Index
was between 0-10%; and a robust market is defined as any period where the five-year rolling average return for the Index was
greater than 10%. There were 226 five-year rolling average monthly periods between July 1, 1993 and March 31, 2017. Past
performance is no guarantee of future results. Please refer to the end of the presentation for important disclosures.

5
Theres risk to operating in our unconstrained idiosyncratic fashion. We wont be fully invested at all times
regardless of valuation. And, although we may be avoiding losers, there will be times when our winners
arent keeping up with the market. This will periodically lead to relatively poor performance; and, we will
invariably lose clients as a result.

We will avoid whole sectors of the market for years, if not decades. We benefited by not owning
technology stocks when they declined 78% from 2000 to 2003. 5 It also helped that we didnt own much by
way of financials in the 2007 to 2009 time frame, as they collectively declined 76%.6

Since we arent closet indexers, our returns will therefore usually look vastly different than our
benchmarks for better and worse.

As an unconstrained manager, we dont have to do anything and we certainly dont have to do

everything.

Think of all of these companies that this approach can help you avoid

You know we have to make a Valeant effort to always PayLess as we travel Countrywide and make
our Global Crossings to find our Blockbuster investments. We might as well take a deep breath of the
Swissairas we seek our Barings.

I know by reading the financial press that many firms like to offer a degree of certainty, even though
theyre not allowed to actually promise anything. They use words to offer investors a confidence that their
rates of return will be stable will be solid maybe offering a visual of a calm sea.

Our approach does not offer certainty. Because were different, we may even breed insecurity.

We do what we think is best to deliver our clients a good risk-adjusted return. We believe we have shown
that it is advantageous over time to operate with such a broad charter.

Let me give you some specifics.

First, I want to take you through the history of our firm which will give you a sense of our values.

5
Russell 3000 Technology sector declined -78.14% from 3/22/00 to 3/11/03. Source: Morningstar.
6
Russell 3000 Financials sector declined -76.18% from 10/7/2007 to 3/9/2009. Source: Morningstar.

6
I started our Contrarian Value go-anywhere strategy in 1990, and introduced its flagship public mutual
fund, FPA Crescent, in 1993. Not long after joining FPA in 1996, I found myself in the middle of the
biggest valuation bubble in seventy years.

Compared to any broad equity benchmark, the Funds performance in 1998/99 was pretty horrible.
Market valuations reached levels wed never seen, nor even read about. Yet, the capitalization-weighted
indices hid something key: that many stocks were very very inexpensive. Small-cap stocks were trading
at the biggest discount to large-caps stocks in history, and were absolutely cheap. High yield bonds were
inexpensive as well, trading with double-digit yields.

Thanks to the pricing disparity between the loved and unloved, we were able to make money in each of
the subsequent three years post-1999, even though the broad U.S. market dropped each year. We simply
avoided the detritus as it cascaded from peaks that should never have been scaled. That was good
enough to place us way ahead of the benchmark for the five years, even though we started deeply in the
hole.

By the way, we didnt own any of the best performing stocks in the Russell 3000 in any of those five
years, but we didnt own any of the worst performing stocks either.

This was the Funds first big test and we passed it by avoiding losses. Although our patience and
discipline allowed us to prevail, that didnt benefit the majority of the funds investors who capitulated
along the way.

Amidst scant opportunities, I closed to new capital in 2005. The best way to avoid unnecessary losses is
by understanding what you own (or might own) the business and its industry. I therefore focused on
building a best in class research team in order to ensure we could continue to win by not losing.

Our second big test came in 2007. A few years earlier, we had begun to document the rapid rise of
subprime debt and the attendant risks faced by many overleveraged and overvalued financial institutions.
In order to effectively frame the opportunity, we need to understand both risk and reward. Determining
what can go wrong enables us to evaluate the downside.

Evaluating the potential return is the other part of the equation.

Stock and corporate bond valuations werent low enough to justify the risks of excessive leverage in the
system, so we positioned ourselves conservatively. By October 2007, we had 45% in cash (close to an
all-time high) and just 4% in high yield (which, at the time, was an all-time low). And yet, the Fund was still
able to best the market that year although we did own one of the top five performing stocks.7

We communicated to our clients why we were maintaining such a cautious posture and this time they
trusted our rationale. We were therefore prepared when the markets wilted in 2008. Our fund declined as
well but our losses were just 55% of the markets (S&P 500).

In late 2008 and early 2009 we used our cash hoard to aggressively buy distressed corporate bonds,
many of which offered yields-to-maturity in excess of 20%. The high yield market rebounded quickly and
our new investments were drivers of our 2009 return, allowing us to outperform the market once again
without any of the top five performing stocks. If one were to look at 2008 and 2009 cumulatively, winning
by not losing allowed us to be one the few managers in our space to book positive performance.

This brings us to today, with an impending third test due to come before too long or, maybe too long,
but one day. The S&P 500 is in its 99th month of a bull market the second longest since 1926. The US
market hasnt had at least a 20% correction since 2009; while, the US economy is in its ninth year of
economic expansion the third longest since 1900.8 US stocks currently trade at historically high
valuations, supported more by low interest rates than by earnings growth. 9

7
The FPA Crescent Fund owned Chevron in 2007, which was the fifth largest contributor to the S&P 500s return that year.
8
JPMorgan First Quarter 2017 Guide to the Markets.
9
US stocks (as measured by the Shiller P/E and Price/Sales) are trading at the second richest valuation since WW II and the
median S&P 500 and MSCI ACWI stock (as measured by price to earnings and price to sales) are trading at levels higher than the

7
On the other hand, stock markets in the UK, the rest of Europe, and Asia ex-Japan have seen their
markets suffer 20% drawdowns in the last couple of years making them relatively cheaper. This leaves
global valuations looking a bit better than the US, but the median MSCI ACWI stock still trades at levels
higher than the prior two market peaks; while, Asian and Emerging Market stocks are trading closer to
their median valuation. For the most part, we would argue that the valuation disparity reflects more of a
relative value when compared to overpriced markets, than absolutely cheap offering great investment
opportunity.10 I also will offer that like-to-like on a business quality comparative, companies in these
markets are not as inexpensive as they might at first appear.

As a result, we arent finding many investments where the juice is worth the squeeze. It feels like its a
better time to emphasize avoiding losses rather than seeking gains.

Nevertheless, weve made a few investments that are interesting.

The travails of Sears Holdings in the U.S. have been broadly covered. Its even poorer relation just north
of the border, Sears Canada, is less well-known.

Sears Canada faces the same existential challenge as so many other retailers, as it sells non-price
competitive products out of an over-sized box in an increasingly empty mall versus the greater breadth,
pricing, and ease of delivery available online.

Sears Canada could very well go bankrupt at some point.

Therein lies an opportunity for those with capital. Sears Canada needs money and we were happy to lend
them some.

Given our view of Sears Canadas tenuous finances, we underwrote the loan, focusing on its liquidation
value, independent of the company remaining a going concern. We have secured collateral in the form of
inventory, receivables, and real estate about 1.7x the loan amount so if the company doesnt make it,
we should still be paid in full. Thanks to a 2% commitment fee and annual interest of LIBOR plus 9.75%,
we should have at least an 11.3% IRR11. I say at least because in the event the company were to
restructure prior to maturity, our IRR would be higher, particularly if it happens inside of three years when
we would be due an additional prepayment fee. Our projected return is almost six points better than the
current 5.5% yield-to-worst of the U.S. high yield market, and higher than what we suspect the stock
market might do.

last two market peaks. US small cap stocks now trade at their highest level ever using Cyclically Adjusted P/Es (CAPE) 56x
earnings.
10
Asian, European, and Emerging Market stocks are trading at closer to median CAPE ratios. The US high yield market once again
is trading near its lowest yield. The European high yield market is at its lowest yield.
11
Internal rate of return (IRR) is a metric used in capital budgeting measuring the profitability of potential investments. Internal rate
of return is a discount rate that makes the net present value of all cash flows from a particular project equal to zero.

8
 Sears Canada Secured Loan12

I realize talking about a possible 11% return may not get you terribly excited, but we believe its an
intelligent use of capital, particularly more so in the context of such low interest rates, our low
expectations for equity returns, and a high level of confidence in the loans ultimate repayment.

Ill share another investment idea thats a bit more idiosyncratic and one that I believe can allow an
investor to monetize the view that volatility will eventually return to the markets. Its fairly common
knowledge that stock volatility is unusually low. Im going to speak more generally as this is a trade that
we have not yet fully executed.

Equity volatility in the USas measured by the CBOE Volatility Index13 or VIX trades well below its
average and close to its all-time low. Investors have priced in negligible risk.

CBOE Volatility Index (VIX)14

12
Source: FPA and company reports. As of 3/31/2017, Sears Canada represented 0.1% of the Funds total net assets. Libor stands
for London interbank offered rate and is a benchmark rate that serves as the first step to calculating interest rates on various loans
throughout the world. IRR stands for Internal Rate of Return and is the interest rate at which the net present value of all expected
cash flows from a project or investment equal zero. Portfolio composition will change due to ongoing management of the Fund.
13
The current VIX index value quotes the expected annualized change in the S&P 500 index over the next 30 days, as computed
from current market prices for all OTM calls and puts for the front-month and second-month VIX futures expirations. The goal is to
estimate the implied volatility of the S&P 500 over the next 30 days.
14
Source: Bloomberg. Last data point as of April 24, 2017. Volatility is a statistical measure of the dispersion of returns for a given
security or market index.

9
Its logical to want to position oneself to profit from some kind of reversion to the mean. Unfortunately, the
term structure15 of implied volatility for the S&P 500 is upward sloping, or in contango.

Implied Volatility S&P 50016

This means that if one were to be long equity volatility, one would have to continually purchase near-
dated futures contracts at higher prices than the current spot market. As the future contract migrates to
spot, this negative roll yield leads to an expensive decay where you could lose 50-100% of your
invested capital in the next year. We prefer those investments where time is your friend, rather than your
enemy.

Its not just stock volatility thats at historic lows though; interest rate volatility is at its nadir as well. The
Merrill Lynch Option Volatility Estimate Index17, known as the MOVE Index illustrates this. It is to bonds
what VIX is to equities.

15
The interest rate yield curve is also called the the term structure of interest rates. The same concept applies here: you can plot
implied volatility over time (i.e., term).
16
Source: Bloomberg. Last data point as of May 1, 2017.
17
This is a yield curve weighted index of the normalized volatility for 1-month USD rate options. It is the weighted average of 1m2y,
1m5y, 1m10y, and 1m30y USD rate implied volatilities with weights of 0.2/0.2/0.4/0.2.

10
 US Interest Rate Implied Volatility MOVE Index18

Unlike equity volatility, the US Dollar interest rate forward curve 19 for implied volatility is currently
downward-sloping, or in backwardation

Implied volatility USD interest rates (left) and S&P 500 (right)20

Through various investment instruments, one can purchase volatility at a point in the future at prices
lower than spot about as low as its ever traded. This offers some protection to ones long book, while
having a positive carry a high single to low teens current yield.

18
Source: Bloomberg. Last data point as of May 2, 2017. The Merrill Lynch Option Volatility Estimate Index or MOVE Index is a
blended measure of implied normalized volatility for one-month U.S. dollar interest rate options across the yield curve; in other
words, the MOVE Index is to bonds as the VIX is to equities. This is a yield curve weighted index of the normalized volatility for 1-
month USD rate options. It is the weighted average of 1m2y, 1m5y, 1m10y, and 1m30y USD rate implied volatilities with weights of
0.2/0.2/0.4/0.2.
19
20y and 30y USD rates.
20
Source: Bloomberg, FPA. As of May 5, 2017.

11
Since we are already at historic lows in the US, we find that this trade offers compelling asymmetry, the
potential for great upside with what should be negligible downside unless we move to a Japan-like
deflationary scenario.

Potential Gross Return Scenarios 21

One explanation for why such an atypical trade exists is that it is another unintended consequence of
Central Bank action. In this case, due to the US Fed having purchased ~$1.8 trillion of agency mortgage-
backed securities since 2009 from the likes of the GSEs (Fannie Mae and Freddie Mac), mortgage
REITS, and hedge funds each of which hedged their naturally short volatility position by going long
volatility.22 Since the Fed does not hedge its huge mortgage book, this has created a circumstance in the
market that hopefully allows one to make money while waiting for volatility to revert to its higher mean.

US Federal Reserve Ownership of Agency MBS23

Winning by not losing means to focus on both commission and omission that is, both what you put in
your portfolio and what you dont.

As an example of successful omission, I suggested in a mid-2015 speech that I thought it made sense to
avoid Grainger, a US-domiciled industrial distributor that was trading at 19 times its current years
earnings estimate.24 As well-run as this company was and is its still just a middleman, distributing
products made by others that was collecting a 43%+ gross margin an unusual margin for a company
that exists to move a widget from one warehouse to another. With such a large pricing umbrella, its no

21
Source: FPA estimates. These potential gross return scenarios reflect levels of volatility implied via USD interest rate swaption
prices both seen today (Roll to Spot) and previously reached during 2007 (2007 Low), 2008 (2008 High), and 2011 (2011
High), as well as via JPY interest rate swaption prices both seen today and previously reached during 2007 and 2008 (together,
Japan Low).
22
https://www.bloomberg.com/news/articles/2017-02-06/the-mortgage-bond-whale-that-everyone-is-suddenly-worried-about
23
Source: Federal Reserve Bank of St. Louis. Last data point as of May 3, 2017. MBS stands for mortgage-backed securities.
24
Steven Romick, Dont Be Surprised. A speech to the CFA Society of Chicago, June 25, 2015. See:
http://www.fpafunds.com/docs/special-commentaries/cfa-society-of-chicago-june-2015-final1.pdf?sfvrsn=2

12
wonder that Amazon has targeted industrial distribution as a sector ripe for the picking. Amazon believes
they can disintermediate industrial resellers just as they have high street retailers.

We concluded that Grainger would face revenue and margin pressure. Since then, Grainger has missed
earnings for 3 of the last 8 quarters, revenues have been less than forecast, its gross margin has declined
by almost three points, and its earnings have declined almost ~15%. 25

Amazon is still early in developing this business and its too hard to know what will happen; and even
though Graingers stock has since declined more than 25%, I still wouldnt buy shares on the hope that
they figure out a way to beat the Everything Store.

We regret not buying Amazon a few years ago an error of omission. However, avoiding those
businesses that Amazon is likely to disrupt is essentially making the same trade.

Winning by not losing.

Innovative technology is driving business transformation faster than ever before. As a result, the expected
tenure of a company in the S&P 500 is expected to drop from 25 years to 14 years.26 We want to avoid
those companies whose businesses are existentially challenged. Many of these will end up being the
worst stock performers in the coming years. Since 1995, the worst performing 10% of stocks in the S&P
500 have detracted -3.3% on average annually from the S&Ps annual return, or 35% of that indexs
annual average return. Sidestepping them would have been good for ones financial health.

Corporate mortality 27

FPA Crescents overlap with the large S&P 500 index contributors has been minimal since inception,
though it has picked up in recent years as market opinion has gradually converged to our 2011
conclusion that large-cap tech companies were inexpensive and unlikely to be dethroned anytime soon.
Whats been rarer is for us to have held a top 5 loser occurring only six times since 1995 and smaller
average positions than our winning longs. And, on two occasions, we were short a top five index
detractor.

25
Bloomberg, Grainger Q1 2017 Earnings Release.
26
Innosight. Corporate Longevity: Turbulence Ahead for Large Organizations. Spring 2016.
27
Source: Left chart: Govindarajan, Vijay and Srivastava, Anup, Strategy When Creative Destruction Accelerates (September 7,
2016). Tuck School of Business Working Paper No. 2836135. Right chart: Innosight. Corporate Longevity: Turbulence Ahead for
Large Organizations. Spring 2016.

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 S&P 500s Top 5 Annual Contributors/Detractors owned by FPA Crescent Fund28

Our approach isnt painless; to which I can sorely attest. Im not going to tell you it was easy to come into
the office from 1999 to early 2000 and get fired every day, as our Fund was losing 80% of its assets.

After I lived through such business devastation and ego realignment once, I knew I could do it again,
giving validation to Nietzsches observation, What does not kill him, makes him stronger.

Watching others do better bruises the ego of the investment professional. And its hard for clients who
watch their neighbors make money when theyre not. That, in turn, can place external pressure on the
investment manager who might seek to appease the client in order to protect their business.

We frame our investment discussions about where we want to be in ten years. That makes the daily
decisions easier. Sometimes, it means that we do nothing. For some, thats hard to do and for others its
impossible.

Bull markets breed a certain complacency that leads many to assume more risk in their portfolios. In an
effort to maximize returns, people want to see every dollar working for them. Cash sitting around earning
negligible returns can be viewed as an abdication of responsibility.

We will be fired at times as a result. We were hired to do what we think is right, which is the best way to
protect ones business (and reputation) recognizing that sometimes we will be wrong. Therefore, we
shop when goods are on sale, and when product is marked up, look for what we might want to buy in the
future.

More importantly, consider how cash performs when there are historically high valuations, typically the
time when we have more cash than usual sitting on the sidelines (as determined by bottoms up analysis,
not because of a macro view). When CAPE ratio is above 25x, cash has outperformed in the subsequent
rolling 5-year periods 77% of the time.29 The CAPE ratio is 29x today.

Since I started the FPA Crescent Fund, cash has outperformed the market almost half the time over
rolling 5-year periods.30 Having cash when assets are priced to perfection generally has not been a bad

28
Source: S&P CapIQ, Fund holdings. Green boxes indicate that the Fund owned a top five S&P 500 contributor or was short a top
five S&P 500 detractor for that year. Red boxes indicate that the Fund owned a top five S&P 500 detractor. Of the 110 total top
contributors from 1995 (earliest date available) to 2016, the Fund owned 15, or 13.6%. Of the 110 total top detractors, the Fund had
exposure to a net of 4 names (6 long and 2 short), or 3.6%.
29
CAPE stands for Cyclically Adjusted Price to Earnings ratio.
30
On a rolling 5-year basis, since June 1, 1993, cash has outperformed the S&P 500 45% of the time and the MSCI ACWI almost
50% of the time.

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idea, although it may not serve one well over the near-term. So, in addition to avoiding the losers, having
the ability to not be fully invested has allowed us to win by not losing.

Im not arguing that holding equities for the long-term is a bad idea, but it does assume one actually holds
them and doesnt panic sell at inopportune times, an affliction of both professional and personal investors
alike.

I'm an optimist. Over time, I expect that there will be global economic growth and that will translate into
higher asset values. We expect, however, that there will be bumps in the road and we want to make sure
our portfolio has decent shocks on its chassis to absorb them. It will be important to stay the course when
the going gets rough, but all the better to have some liquidity to put to work when others want or need to
sell.

So after three plus decades of investing, Im left with the following conclusions:

Think long-term, in rolling seven to ten year blocks. Its too hard to make good things happen every year,
so why bother trying.

Keep your own counsel. Relying on others just gives you someone else to blame.

Dont pay up. Its the surest way to lose by not winning.

Do your homework. Understanding a business will save you from mistakes.

And to those of you with the patience, and fortitude, to resist the temptations of the moment. To those
of you who dont want to be the mosquitoes that bang into every bulb thats illuminated you can not
only not lose.

You might just win more than youd ever expect.

Steven Romick
First Pacific Advisors, Managing Partner

Acknowledgment: I would like to thank Ryan Leggio for proposing the idea behind this adapted speech.

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Important Disclosures

The views expressed herein and any forward-looking statements are as of the date of the publication and
are those of the portfolio management team. Future events or results may vary significantly from those
expressed and are subject to change at any time in response to changing circumstances and industry
developments. This information and data has been prepared from sources believed reliable, but the
accuracy and completeness of the information cannot be guaranteed and is not a complete summary or
statement of all available data.

Portfolio composition will change due to ongoing management of the Fund. References to individual
securities are for informational purposes only and should not be construed as recommendations by the
Fund, the portfolio managers, or the Distributor. It should not be assumed that future investments will be
profitable or will equal the performance of the security examples discussed.

Investments in mutual funds carry risks and investors may lose principal value. Stock markets are volatile
and can decline significantly in response to adverse issuer, political, regulatory, market, or economic
developments. The Fund may purchase foreign securities, including American Depository Receipts
(ADRs) and other depository receipts, which are subject to interest rate, currency exchange rate,
economic and political risks; these risks may be heightened when investing in emerging markets. Small
and mid-cap stocks involve greater risks and may fluctuate in price more than larger company stocks.
Short-selling involves increased risks and transaction costs. You risk paying more for a security than you
received from its sale.

Interest rate risk is the risk that when interest rates go up, the value of fixed income securities, such as
bonds, typically go down and investors may lose principal value. Credit risk is the risk of loss of principal
due to the issuers failure to repay a loan. Generally, the lower the quality rating of a security, the greater
the risk that the issuer will fail to pay interest fully and return principal in a timely manner. If an issuer
defaults the security may lose some or all of its value. The return of principal in a bond investment is not
guaranteed. Bonds have issuer, interest rate, inflation and credit risks. Lower rated bonds, callable bonds
and other types of debt obligations involve greater risks. Mortgage-backed securities and asset-backed
securities are subject to prepayment risk and the risk of default on the underlying mortgages or other
assets. Derivatives may increase volatility.

Value securities, including those selected by the Funds portfolio managers, are subject to the risk that
their intrinsic value may never be realized by the market because the market fails to recognize what the
portfolio managers consider to be their true business value or because the portfolio managers have
misjudged those values. In addition, value style investing may fall out of favor and underperform growth
or other styles of investing during given periods.

The FPA Funds are distributed by UMB Distribution Services, LLC, 235 W. Galena Street, Milwaukee, WI,
53212.

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